Understanding Candlestick Chart


Get Rich / Sunday, June 21st, 2020

“Though this be madness, yet there is method in it.”

William Shakespeare

Trading without a chart is like wandering in the Amazon jungle without a compass. By studying the chart you can predict the future movement of the stock or any other asset and trade accordingly.

Most of amateur traders use line charts for trading. In line charts we use closing prices of the underlying stock during the predetermined time frame.

Time frame is very important concept of the chart. You can choose time frame from as short as one minute to as long as one month. So based on time frame, there are one minute chart, five minutes chart, daily chart, weekly chart and so on.

Intraday traders use one minute to daily charts, short term traders use hourly charts to weekly charts, while long term traders use daily to monthly charts.

So let’s go back to the line chart. If your time frame is daily, you take closing price of the stock every day after market close and depict it as a point on a chart. Then you connect all the points with lines. And you get the line chart. You can see below the daily line chart of Apple Inc :

The problem with line chart is that it shows only closing price and doesn’t tell you about the entire movement during the time frame. To solve this problem, the Japanese traders developed candlestick chart. In candlestick chart we show four parameters :

(1) Open : the first traded price with which the stock starts trading in the beginning of the time frame.

(2) Close : the last traded price of the stock at the end of the time frame.

(3) High : the highest traded price of the stock during the entire time frame.

(4) Low : the lowest traded price of the stock during the entire time frame.

Formation of a candlestick is explained in the  picture below :

Price movement between open and close is shown by a rectangle bar. It is called the body of the candle. While high and low movement is shown by a line. It is called a  shadow or a wick of the candle.

If close is greater than open ( that is when the stock price goes up), it is shown by white or green colour. It is called hollow or bullish candle. If close is less than open (when the stock price goes down) , it is shown by black or red colour. It is called filled or bearish candle.

                Green/bullish candle tells us that the buyers have control over the sellers. On the other hand red/bearish candle suggests that sellers have upper hand.

You can see below the daily candlestick chart of Apple Inc :

Now you can see the difference between line chart and candlestick chart. This chart is colorful and more informative. That’s why most of the professional traders study this type of chart.

In this daily chart, one candle shows trading movement for one day. For example, you can see in this chart that on 13’th June Apple started trading at 312 when market opened, so it is the open. Then it went upto 316 during the day, so it is the high. Then it went down to 303.5 during the day, so it is the low. But at last it closed at 308 with market close, so it is the close.

When open and low are same, the candle has no lower wick, similarly if close and high are same, there is no upper wick. As you can see in the latest candle of the above chart.

There is psychology behind each candle. Therefore by studying the chart, an analyst can predict the future movement of the stock. More interestingly, candlesticks either alone or together make some patterns which can provide lucrative returns in trading. You can learn these patterns in my upcoming article “Candlestick chart patterns for profitable trading”.

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